EXPANSIONARY FISCAL CONTRACTION HYPOTHESIS: THE CASE OF TURKEY

Recently both empiricial and theoretical studies focus on expansionary fiscal contraction hypothesis (EFC), according to which fiscal contractions stimulate consumption and also lead to an increase in aggregate demand and output. In this paper the validity of the EFC hypothesis is tested for Turkey from 1987 to 2006 by means of structural vector autoregressive (SVAR) models. Impulse response analysis is carried out by imposing long-run restrictions on Vector Error-correction Models (VECM). Structural shocks in government expenditure, terms of trade and income are decomposed into permanent and transitory components. Long-run identifying restrictions are imposed on the effects of permanent shocks. Empirical analysis indicates that fiscal contractions are not expansionary in Turkey. Based on the findings, terms of trade and supply shocks seem to have more explanatory effect on consumption expenditure.